Self managed super funds rush for property

For many years, property investment has been one of the mainstays of the Australian investment environment. Many people like a tangible investment, and bricks and mortar has always been popular. And over the past 16 months, the growing appeal of property has become even more evident following the introduction of new rules, whereby it became easier for self managed super funds (SMSFs) to borrow to invest in property. Added to that softening house prices, record low vacancy rates and strong rental income, and you can understand why more people with SMSFs, or DIY super funds, have been enticed to take that step.

According to recent Australian Taxation Office figures, investment in direct property represented 15.4% of total assets managed by DIY funds, up from 13% three years ago. The ATO also found that SMSFs invested an additional $500 million in direct real estate over the March 2011 quarter.

This increase coincides with the appeal of DIY super funds continuing to grow, with $3 billion added to SMSFs over this period, taking the total invested to $418 billion held by 7,500 funds.

There are certainly significant benefits in direct investment in property. For example, one of the main benefits of buying property in a SMSF is that capital gains tax is much lower – i.e. 15% if the property is held for less than one year, 10% if held for longer, and potentially nil if the property is sold when you are in retirement and your superannuation is paying a pension. In addition, net rental income is taxed at a maximum rate of 15% in an accumulating super fund, and nil tax in a super pension fund (compared with up to 46.5% in your personal name).

Rental income received by the SMSF is also non-taxable and can go straight off the loan and will not count as a trustee contribution.

Older properties take on new sheen

With the recent news that the ATO has released draft rules allowing SMSFs to renovate properties they hold – provided they don’t borrow the money to make the improvements – property is likely to become an even more attractive asset for DIY funds to hold.

The ruling, released in September 2011, allows renovations to properties held in SMSFs as long as the money comes from within the fund (it cannot be borrowed) and the renovation does not fundamentally alter the nature of the property. Previously the ATO has ruled that SMSFs could not borrow money from any sources to improve their properties.

Many in the industry have called the ruling on improvements a welcome relief, given that real estate assets are usually held for a long time and obviously need some revamping in that time.

Peter Burgess, the national technical manager of the SMSF Professionals Association of Australia (SPAA), told the Australian Financial Review: “This change will mean that property is now a more attractive option than it was previously.”

The ATO has also clarified rules around borrowing to repair property. SMSFs will be able to borrow to undertake repairs as long as it does not change the character of the dwelling.

So what’s covered under self managed super funds’ property improvements? It’s best to check with the ATO, but it can include:

• Installing a new pool
• Building a new garage
• Extending/renovating a kitchen or bathroom
• Adding a second storey to a house
• And for farms, adding a new set of cattle yards, a new windmill, a dam

Be aware

It’s vital that property investors who use their self-managed super funds to borrow and acquire real estate fully understand their obligations and comply with the law, the ATO has warned.

ATO superannuation assistant commissioner Stuart Forsyth has said that the coming year will be a “big year” for regulation and compliance. Mr Forsyth told the audience at the recent Institute of Chartered Accountants’ National SMSF Conference in Melbourne that the ATO is acquiring new powers to prevent breaches of legislation.

There are many complex laws restricting the use of SMSF’s to borrow money which you need to understand. You really do need to get some good advice from a qualified financial consultant first before implementing any strategy, as they will be able to help you better understand and abide by these laws and also to advise you whether this is an appropriate solution based on your needs and circumstances.

Homeloans offers a home loan which allows established SMSFs to borrow funds for the purchase or refinance of residential investment properties. Click here for more information.